What is a defined contribution pension?

A defined contribution pension (sometimes referred to as a money purchase pension scheme) is a type of pension scheme where the pension pot is based on how much money is paid into the scheme. This is markedly different to a defined benefit pension schemes which usually relates to workplace pensions where the pension provider promises to give you a certain amount each year when you retire.

A defined contribution pension can be a company or private pension. The pension pot is based on monies added by you and / or your employer. This money is invested by the pension provider. The final return with these pensions is not guaranteed and the value of the pension pot can go up or down depending on how investments perform.

There are three main options available at retirement, lifetime annuity, flexi-access drawdown and a lump sum payment. These options can be used on their own or in combination. The first 25% drawdown is tax-free and the remainder is taxed at the individual’s marginal rate.

There are no overall limits to employer or employee contributions and no upper limit to the total amount of pension saving that can be built up. However, there are limits that affect tax relief on pension contributions including an annual and lifetime allowance.

Source:Pensions Regulator| 05-12-2022
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